'Hats Off to Don Regan for a Job Well Done'

By Hobart RowenBy Hobart RowenDecember 2, 1984

Miracles can happen! How else can one explain a tax reform program put out by Treasury Secretary Donald T. Regan reversing the key inequities of President Reagan's own tax legislation of 1981 that favored the rich at the expense of the poor?

Three weeks after the election, who would have expected Ralph Nader and a Democratic policy group led by Walter W. Heller and Joseph A. Pechman to be praising a Treasury tax reform proposal, while the Chamber of Commerce's chief economist and other business spokesmen were sniping at it?

But then, no one expected the Regan Treasury to say that many of the most popular tax shelters spawned by the 1981 legislation "have little social value," and to give the back of its hand to the oil depletion and intangible drilling loopholes. More than that, the Treasury blueprint accepts basic tax reform principles espoused by academics such as Pechman and the late Stanley S. Surrey over the past 25 years or more.

The "overview" paper issued by the Treasury also raises some of the same ethical objections to the workings of the tax system recently made by the National Conference of Catholic Bishops in their pastoral letter on the economy.

"I certainly didn't expect base-broadening and the inflation adjustment in the same package," Pechman said this week. "That was certainly a courageous thing to do."

This column isn't the vehicle for a complete summary of the Treasury proposal, or an endorsement of every feature. But a word about base-broadening and the inflation adjustment will suggest the dramatic scope of what Regan and his staff have put before the public for debate.

Base-broadening is the heart of any serious tax reform: special preferences exclusions, loopholes and credits -- not available to the bulk of taxpayers -- would be swept away, which means that more of the income earned would actually be taxed instead of sheltered. With more income to tax, rates in general can be lowered. The top rate in the Regan proposal would be 35 percent instead of 50 percent. More people at the bottom of the scale would pay no taxes at all, and the average individual tax would come down 8.5 percent.

If the present momentum for base-broadening reform materializes, said Heller in the report for the Democratic Center for National Policy, "it will upset the conventional wisdom . . . and represent a major victory of the general over the special interests."

The inflation adjustment mentioned by Pechman deals with the problem -- as the Treasury report said -- that "during inflationary times, taxes are collected on totally fictitious income." The Treasury proposes a partial indexation scheme to mitigate this damage. For example, a portion of interest income, traceable to inflation, would be excluded from taxation. And capital gains, after the inflation adjustment, would be taxed at ordinary rates -- the feature of the proposal most feared by the venture capital, high-risk new industries.

But to come crashing back to reality: None of this is going to happen very soon, if at all. The White House -- clearly as unprepared for the sweeping nature of Regan's proposals as everyone else in Washington -- quickly put distance between itself and the Treasury. With a grin, Regan himself suggested to reporters that "this was written on a word processor, and it can be changed."

And it is also important to bear in mind that neither the Treasury reform plan nor the Bradley-Gephardt or Kemp-Kasten schemes -- as they stand now -- deal with the critical problem of the $200 billion deficit, which requires a tax increase as opposed to reform. Even tax reformer Pechman reluctantly concedes that a tax increase to cut the deficit should get priority over reform. (He estimates that the Treasury could pick up $50 billion to $100 billion a year more on its broader base by raising the 35 percent top marginal rate to 37 or 38 percent).

But recognizing all the problems that lie ahead as the special interest groups train their guns on this proposal -- as they have on less ambitious reform plans going all the way back to the Kennedy administration -- Regan and the Treasury professional staff should get full credit for a gutsy and all encompassing approach to tax reform: Their proposals would take the wretched American tax system, which is unfair and too complicated, and make it simpler, more rational.

The plan makes so much sense and attacks so many sacred cows that it is highly doubtful that President Reagan can adopt the bulk of it. By proposing to shift some of the tax burden from individuals back to the corporate side, the Treasury plan has already evoked a pained response from the business community and from other special interests.

Little wonder: The Treasury documents say that the investment tax credit and the accelerated depreciation program that Congress put on the books in 1981 "are of relatively little value to new and rapidly growing firms, or to ailing industries, neither of which can use their benefits. New firms are penalized and there are incentives for tax-motivated mergers. The result is reduced competitiveness and less incentive for innovation."

Ironically, as Henry Aaron of Brookings observed, the Treasury is now making the precise arguments against the combination of the investment tax credit and rapid business tax write-offs that opponents of the 1981 tax giveaways had made in the first place.

This doesn't sit well with some entrenched interests. Economist Richard Rahn of the Chamber of Commerce argues that the present tax system should be credited with stimulating economic growth, and shouldn't be changed. But it is hard to see how Rahn can dispute the Treasury statement that "an ideal tax system would be as neutral as possible toward private decisions. Any deviation from this principle represents implicit endorsement of governmental intervention in the economy. . . . " Do Rahn and the chamber believe in the free-market system, or don't they?

One hopes that special-interest pleading will be offset by an awakened public response that will swing the tide to some version of tax reform. Not everything on the Treasury wish list will get done, and whatever gets done will be a long time in transition. But hats off to Don Regan and the Treasury for a first-class job.